You might be tempted to make financial decisions based on the past. But if you were trying to chart the future of the stock market in an election year, how could you ignore the unprecedented aspects of the 2016 cycle? Convention, it seems, hasn't only been cast aside -- it has nearly been stomped to death.
Nevertheless, it looks like this will be an election pitting Hillary Clinton against Donald Trump. As for how the election turns out, the odds mostly favor Clinton. But much of this cycle has been difficult to predict.
Veteran stock market watcher Hugh Johnson, chairman and chief investment officer of Hugh Johnson Advisors, sees a greater likelihood of a Clinton win, something that's considered generally market-friendly.
"My guess is that investors will prefer little change in federal government policy and will be legitimately concerned about the economic impact of the foreign policy, immigration and trade policies that we guess will be included in the Republican/Trump position," Johnson says.
Stocks making a comeback
As for the stock market, the Standard & Poor's 500 index has risen considerably from its February low. However, the economy is a mixed bag of moderate jobs creation countered by slow growth in the first 3 months of the year.
Sam Stovall, U.S. equity strategist for S&P Capital IQ, notes that stock market results are typically positive in election years. He found that since 1948, the S&P 500 averaged a 6.1% gain during the 4th year of the presidential cycle. Stovall's research found that the index was up 76% of that time.
Where stocks are vulnerable
A couple of possible scenarios could cause the stock market's wheels to come off: For example, the job market suddenly tanks, or signs of a financial crisis emerge. It hurts that prospects for resolving long-term challenges, like unfunded entitlement spending or the need for tax reform, appear no closer to resolution. Still, for many years, gridlock in Washington has ironically been regarded as a positive for stocks.
So if Trump's candidacy discourages Republicans from going to the polls, it raises the chances of a Clinton victory and the possibility that either the Senate or both houses of Congress end up under Democrat control. Suddenly no more gridlock.
Markets don't like uncertainty, and a Trump win would seem to inject a massive dose of it into the marketplace. It's hard to see how stocks react well in that environment. "Our sense is that stocks are not yet reflecting the considerable uncertainty surrounding the presidential election," says Michael Farr, president & CEO of Farr, Miller & Washington, a Washington, D.C.-based investment firm.
Congress unlikely to act
There seems to be no sense of shared urgency or purpose among many elected officials.
"The longer-term U.S. fiscal position is dire, but over the next decade or so, the debt-to-GDP level is expected to be stable, which is both a curse and a blessing. It provides policymakers with ample time to address the longer-term problems (too little revenue and/or too much spending), but it's a curse because history suggests that Congress is unlikely to act until a crisis is at hand," says John Canally, chief economic strategist of LPL Financial.
Opportunities for investors
Don't change your investing approach simply because it's an election year. Certainly some measure of caution is always advised, but there may be risks and opportunities. For example, would defense stocks do better under one of the candidates?
Beyond the uncertainties related to the election cycle, challenges associated with the Federal Reserve's desire to "normalize" interest rates and weak global growth are only a couple of the variables that investors might take into consideration. Farr recommends investors stay in the market but remain nimble. "There is no reason to swing for the fences following one of the strongest bull markets in history," Farr says.
Canally acknowledges that uncertainty is a constant in one form or another. "Markets almost always climb the proverbial wall of worry. … The U.S. election uncertainty and the Brexit vote are the latest examples. Ultimately, however, equity prices are determined by actual corporate earnings growth and prospects for future growth, and this time is no different. Long-term investors will always focus on the earnings fundamentals."
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